I am a securities law attorney at Wiand Guerra King in Tampa, Florida, where my practice includes complex commercial litigation and regulatory matters, with a focus on securities and financial services litigation. I am also part of the team representing the court-appointed receiver of Arthur Nadel's $400 million Ponzi scheme, and have particular expertise in the area of Ponzi schemes. In addition to my law degree, I also hold a Masters in Business Administration from the University of Miami. In my spare time, I also publish the Ponzitracker blog, which tracks the proliferation of Ponzi schemes both nationally and internationally. Feel free to follow on Twitter at @Ponzitracker. All opinions expressed are solely that of the Author. This blog is not intended, nor should it be construed, as legal advice.

Up Next For ZeekRewards Ponzi Scheme Victims...Clawbacks?

When the Securities and Exchange Commission (“SEC”) accused ZeekRewards (“Zeek”) and its founder, Paul Burks, of perpetrating a massive $600 million Ponzi scheme, hundreds of thousands of victims were shocked to learn that the healthy returns they had been receiving were the result of a massive fraud. Many, lured by the promise of a steady stream of profits, had emptied retirement and savings accounts in efforts to maximize their gains. Now, with the SEC arguing that Zeek was nothing more than an elaborate fraud, many wonder whether they will recoup any of their losses. However, while thousands suffered losses, some victims were fortunate enough to profit from the scheme, withdrawing tens or even hundreds of thousands of dollars in excess of their principal investment. While court-appointed receiver Ken Bell has not publicly commented on the fate of those so-called “net winners”, it is almost certain that they will be the target of “clawback” lawsuits seeking the return of those profits.

Charles Ponzi, whose scam in the early 20th century has garnered lasting notoriety.(Photo credit: Wikipedia)

A receivership is founded on principles of equity. Because the amount of assets ultimately available for distribution to victims is usually insufficient to satisfy the total amount of victim claims, the receiver is tasked with ensuring that any distribution treats similarly-situated victims alike. This includes ensuring that some victims do not receive or retain gains at the expense of other victims. According to attorney Gianluca Morello, who currently represents the court-appointed receiver in a large Ponzi scheme, “it would typically be inequitable to leave net winners from Ponzi schemes with their profits, and a receiver will almost always fix this inequity by pursuing clawback lawsuits against net winners to recover their profits.” To allow some investors to retain any gains they received from the scheme would be in direct contravention of the receiver’s mandate, as those “gains” are, in reality, not profits, but funds belonging to fellow investors. By recovering these “false profits” from net winners, the receiver is able to increase the total amount of assets available for distribution.

Zeek receiver Ken Bell has not indicated whether he will pursue clawback litigation. However, according to attorney Burton Wiand, who is acting as the court-appointed receiver in Arthur Nadel’s $400 million Ponzi scheme, Mr. Bell may have little choice. ”The receiver has little discretion in his determination whether or not to pursue clawback claims, since those claims, and claims against third parties, are assets of the estate that cannot be abandoned without justification,” said Wiand. While victims with nominal amounts of gains may escape prosecution due to the cost of litigation, investors with tens or hundreds of thousands of dollars in gains may not be so lucky.

While obviously unfavored by investors fortunate enough to eke out gains from the scheme, clawback litigation is often the single highest source of funds recovered for victims. By moving quickly to freeze Zeek’s assets, the SEC was able to preserve approximately $225 million sitting in Zeek’s coffers. However, this figure will likely be dwarfed by total investor losses. Thus, absent recoveries from any third-parties for their involvement in the scheme, clawback litigation is also sometimes the sole method of increasing victim recoveries.

Courts routinely favor the use of clawback litigation to recover false profits from investors under the Uniform Fraudulent Transfer Act (“UFTA”), which has been passed by nearly every state in substantially similar form. Under the UFTA, transfers made to a creditor are deemed fraudulent when, among other factors, no reasonably equivalent value was exchanged. An investor is understood to give reasonably equivalent value, assuming they received the transfer in good faith, for any amount up to that investor’s total contribution. Thus, an investor who received 100% of their total contribution usually cannot be compelled to return those funds absent actual knowledge of the fraud. However, an investor who received funds in excess of their original investment is not as lucky, for in a Ponzi scheme, those purported “profits” are, in reality, simply the redistribution of other investor funds. Allowing a fraudster’s arbitrary determinations as to who is enriched under the scheme would be highly inequitable.

For example, consider an investor who contributed $10,000 to the scheme and, over the course of the investment, withdrew $40,000, netting a handsome profit of $30,000. While the investor would likely be deemed to have given reasoanbly equivalent value for the withdrawals totaling $10,000, the additional $30,000 would be deemed false profits and likely targeted by the receiver in a clawback lawsuit.

The receiver’s immediate priority is the completion of his initial investigation, which will allow him to understand the extent of each investor’s gains or losses. Typically, once this has occurred, the receiver may obtain court permission to contact those “net winners” before filing suit to see if the false profits could be returned without going through litigation. Sometimes, a slight discount is offered as an incentive to avoid litigation. With the number of net winners estimated to be in the thousands, this approach would seem likely in an effort to prevent litigation costs. While some may hold out hope that the large amount of victims could possibly dissuade the receiver from pursuing clawbacks, this too seems doubtful. Kathy B. Phelps, a California lawyer who recently authored a book on unraveling Ponzi schemes, agrees that clawback suits are likely, but observed that the receiver could also take into account “issues of hardship and collectibility”. Because the receiver’s investigation is expected to take several months, any clawback suits would likely not occur until 2013. Until then, victims are relegated to a “wait and see” approach.

EDIT (8/27, 12:00 P.M.): Receiver Ken Bell hosted a conference call today with members of the media to provide an update. A summary of that call is here.

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Unfortunately, I show a net “profit” in this ZeekRewards mess, but fortunately, didn’t spend any of it. The income, up to 50k, was received in 2012. So is this reported in 2012 as regular income for tax purposes, and then the post-tax amount returned as a claw-back down the road? I’m unclear how this “profit” is treated by the IRS now and in the event of a claw-back. Any light you can shed in general terms would be appreciated.

I read an article regarding if the reveiver can clawback the money from those who joined Zeekrewards earlier and ” earned ” a lo of money. It was said that since a lot of ZR affiliates who earned a lot of money from ZR are from other countrie, there is no way for thereceiver to force them to give their ” PROFIT” back, so the American ZR affiliates will not give their profits back either since the American affiliates think it is not fair if they are the only people who have to give the money they ”earned” back. So the concusion is that there will be no such a thing called clawback.

I personally think people try to find ways to get away from paying the money back, it is pure greed.

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